Lowering our expectations for foreclosure settlement

The shortcomings of the $25-billion deal with five major banks seem to proliferate with each passing day.

As for the Treasury, it hasn't made clear what obligations it will impose on BofA and JPMorgan in return for its paying the withheld cash incentives, if any. It does say it will continue to keep an eye on the banks' compliance with HAMP rules, which I'm sure strikes terror into the hearts of the bankers who were consistently flouting them before.

You can argue to your heart's content about whether these penalties were justified and whether the absolution was necessary to bring the banks to the table, but one fact is indisputable: If the banks had shown as much forbearance toward their struggling borrowers as these three agencies have shown toward the banks, the foreclosure settlement wouldn't have been necessary in the first place.

Another murky question involves the number of homeowners who may be helped with mortgage relief. Initial estimates from the state and federal negotiators placed that figure at 2 million families. This always seemed a bit on the high side, especially since mortgages owned by the government-sponsored companies Fannie Mae and Freddie Mac, which hold more than half the nation's underwater mortgages, aren't participating in the deal.

Brookings Institution analyst Ted Gayer last week concluded that other carve-outs will limit the number to 500,000 of the nation's 11 million underwater borrowers. Among other points, he observes that the five participating banks service only 55% of all mortgages.

The settlement's worst flaw may be that it's a lost opportunity. It could have been used to improve HAMP, say by mandating that the banks offer HAMP-eligible borrowers principal forgiveness, which studies show is the most effective way to keep borrowers out of foreclosure. Under current HAMP rules, such offers are optional. But such a provision would have countered the perverse incentives in the mortgage business that discourage mortgage servicers, including the five banks in the settlement, from helping homeowners avoid foreclosure.

"That would have been in everybody's interest," says Neil Barofsky, the former inspector general for the government's bank bailout, which included HAMP.

The aspect of the lost opportunity is that the settlement, to the extent it inflicts any pain on the banks, does so entirely at the institutional level.

"What's most discouraging is that you see none of the individuals who were driving these things being held in any way accountable," Wilmarth says. "The only thing that will actually change behavior going forward is for the individuals who were at the center of this to be held personally responsible and be forced to give up their ill-gotten gains. Then maybe their successors might think twice."